Obama's Budget Blockbuster

February 27, 2009

The 2010 budget blueprint released by the Obama administration Thursday was decidedly bare bones, lacking detailed numbers for most federal programs and clocking in at about one-tenth the normal number of pages of explanatory material. But while the administration's proposal might have skimped on specifics, its proposal for the Education Department had no shortage of blockbuster ideas that, taken together, would begin to radically transform federal higher education programs.

The Obama proposals would:

  • Transform the Pell Grant Program into an entitlement program that, like Social Security and Medicare, would ensure a minimum level of funding that would increase each year. This would spare the government's bedrock need-based financial aid program from having to depend on the whims of Congress each year.
  • Eliminate the bank- and lender-based guaranteed student loan program beginning in July 2010, originating all loans in the government's direct loan program and requiring lenders and other contractors to compete to "service" (collect) the loans once issued. This proposal was immediately attacked by lenders and Republican lawmakers who have historically supported the private-sector program and opposed excessive government takeover of student lending.
  • Make permanent the $2,500 tax credit for families' college spending (including books and computer expenses) that Congress enacted as part of the economic stimulus package this month. Unlike the current Hope tax credit, which the newly created credit was designed to replace temporarily for 2009 and 2010, the "American Opportunity Tax Credit," as the administration is calling it, is partially refundable, which means that it will be available even to people from lower-income families that do not pay sufficient taxes to qualify for existing college tax breaks.
  • Revamp the Perkins Loan Program to make its loans available to significantly more students at significantly more colleges, using significantly different criteria for awarding them. While that sounds like a uniformly good thing, previous proposals to alter the Perkins program have run into opposition from the institutions that have historically benefited the most from the status quo -- especially four-year private colleges and public universities that get the most money from formulas that reward institutions based on their longevity in the program and, to an extent, on how high their tuitions are.
  • Create a $2.5 billion "access and completion incentive program" ($500 million a year for five years) that would give grants to states and other entities to pay for programs designed to increasing students' success in college, with a particular focus on students from low-income and other disadvantaged backgrounds.

Administration officials said details for most other programs would not be available until April, when the full 2010 budget is released. But they said no student aid programs would be cut back.

"We need to invest in our economic future and enable our kids to compete in today's global environment. America's students and workers need a higher level of education and training," Education Secretary Arne Duncan (above left) said in a news release. "President Obama's proposed budget calls for a historic investment to make college more affordable and accessible and to help more students succeed once they get there." (Information about the few details offered about the rest of the Obama administration's budget for higher education can be found at the bottom of this article.)

While reactions to the proposals ranged widely, from strong praise for the additional funds from students to angry denunciations from Republican leaders for what they perceived as a radical expansion of government spending and control, there was widespread agreement with the assessment of the American Council on Education's Terry W. Hartle, who called the budget plans "a bold and breathtaking set of proposals, suggesting probably the most significant revision [in federal financial aid programs] since the original Higher Education Act." And controversial, too, he noted.

In some ways, the Obama administration's proposals amount to a radical acceleration of a strategy that began nearly three years ago, after Democrats took control of Congress. In budget reconciliation legislation in 2007, Democratic lawmakers, over the objection of many Republicans but with the support of budget cutters in the Bush administration, severely cut federal subsidies for lenders and used most of the money to sharply increase funds for Pell Grants and other student-directed purposes.

That's the same basic theme underlying the administration's proposal this time around, only it would go much further. Its analysis projects saving $24 billion over 5 years by effectively ending the system by which the government reimburses banks and other lenders (including state and nonprofit agencies) for issuing, guaranteeing and collecting on federally backed loans, issuing all loans through the existing direct loan program, and using the savings from the merger to solidify annual funding for Pell Grants and other purposes designed to significantly increase the rate at which Americans succeed in college.

"A consolidated student loan program would be more efficient and less expensive, helping to finance substantially larger Pell Grant scholarships for low-income students," the White House Office of Management and Budget said in a summary of the changes.

The Loan Changes

The lender-based system has been under stress in the last two years because of a combination of factors (which experts weight differently), such as the cuts Congress made to lender subsidies in 2006 and 2007 and the tightening of the credit markets. Those developments have led significant numbers of lenders to abandon the student loan market and prompted hundreds of colleges to switch to direct lending.

When a reporter on a telephone briefing asked Education Department officials suggested that the plan would "kill" the lender-based loan program, department officials demurred, saying on several occasions that the program was "already on life support," as Duncan put it.

Robert Shireman, a longtime supporter of direct lending who aided in the Obama transition and helped design the new system as a consultant to the Education Department, used more colorful language. "The [Federal Family Education Loan] Program is dying. In Monty Python terms, it is nailed to its perch."

Under the system the Obama administration is proposing, those subsidies would be entirely ended, and the Education Department would, as it does now, secure loan capital directly from the U.S. Treasury to issue all loans. The department would still use private contractors -- including some current participants in the guaranteed loan program -- to do all servicing of the loans, but through competitive contracts based on performance.

The notion that government-issued direct loans cost the government less than lender-based loans has long been disputed territory, and that was one of many points on which critics of the administration's plan attacked it Thursday. They challenged the White House's estimates of $24 billion in savings (given how much has already been wrung out of the loan programs in the last three years) and speculated that the Congressional Budget Office would come up with very different figures when it assesses the costs of the administration's budget in the coming weeks.

Organizations of lenders also noted that many lenders -- especially state and nonprofit agencies that guarantee loans as well as issue them -- help many students with programs designed to prepare them for college, avoid default, and manage their finances.

“During an economic crisis, more borrowers need the benefit of default aversion services provided by lenders and guarantors," said Marcia Sullivan, director of government relations for the Consumer Bankers Association. "It doesn’t make sense to switch to a program that gives these benefits short shrift. Direct loans are simply not subject to the same quality of service as FFELP Loans, especially in the area of default aversion.” (The administration's budget materials specifically note that states could use money from the $2.5 billion grant program it is creating to continue college outreach and information activities now [financed] through FFEL subsidies.")

Many colleges -- the majority, in fact -- still participate in the guaranteed loan program, and many financial aid directors are strong advocates for it and have opposed previous efforts to obliterate it, arguing that the competition is good for students and colleges by improving the service and offerings of both programs. But such partisans may be more willing to give the Obama proposal "very significant attention," ACE's Hartle speculated, because the White House has framed the changes as a way to ensure a permanent source of funding for Pell Grants, among other priorities.

What the Pell Grant change would mean is that rather than be subject to the yearly appropriations process in Congress -- which, for instance, went six years in the early part of this decade without raising the value of the maximum grant -- the size of the maximum grant would rise each year by the same percentage as the Consumer Price Index, plus one point. In addition, students in the program would receive their full grants every year, rather than having the grants shrink if Congress does not appropriate enough money to meet the needs of all students who qualify for the need-based grants. In many years, Pell funds fall short, and the government has to "back fill" with spending from other programs to close the gaps.

While there will be universal celebration in higher education about the proposed Pell Grant increase, the changes in Perkins loans would create winners and losers, and will certainly be controversial. Citing many of the same complaints raised by the Obama administration about Perkins -- which calls it "inefficient and inequitable" -- the Bush White House and Spellings Education Department repeatedly sought to kill the program, and Congress always rebuffed those efforts, prodded especially by private colleges, which benefit significantly from the current system.

The politics are likely to be significantly different this time around, given that the Duncan Education Department is suggesting increasing the availability of the loans to community colleges and for-profit institutions that have been shortchanged, rather than ending them for everyone. And it is likely to be much more difficult for the longstanding beneficiaries of the program to challenge the Obama team than it was to rail against the Bush administration.

Under the proposal, 2.7 million more students would get the loans, which would be held and serviced by the Education Department rather than individual colleges, and would actually save the government money because interest would accrue on them while the students are in college, which is not the case now. While the exact formula for distributing them is yet to be determined, the Education Department's Shireman said it would be likely to reward colleges that offer significant amounts of need-based financial aid. "We would try to incentivize colleges to do that by basing how much loan money they get on how well they do in making college affordable for their students," he said.

That is a theme that can be found throughout the administration's approach. The tax credit that the budget proposal calls for making permanent after it expires in 2011 (as mandated by the economic stimulus bill) would, unlike existing tax breaks, be available to low income students. And the incentive fund the department proposes creating would very much focus on bolstering access to higher education for students from disadvantaged backgrounds.

The Rest of the Federal Budget

More details were offered about the Education Department's student aid programs than about virtually anything else in the entire federal budget Thursday, leaving supporters of scientific research, humanities and other federally supported programs with very little information about the ultimate fate of their favorite accounts. (Links to the sketchy reports on various agencies, like the National Science Foundation and parts of the Department of Health and Human Services, such as the National Institutes of Health, can be found here.)

Quick summary of other key elements important to higher education:

  • $6 billion in new funds in 2010 for cancer research through the National Institutes of Health, part of the Obama administration's effort to double such spending.
  • $950 million more funds for the National Science Foundation than it received in 2008, part of an effort to double funding for the basic research over 10 years.
  • An increase of $261 million for the Corporation for National Service, in large part to start down the path of increasing the number of AmeriCorps national service participants to 250,000 from the current 75,000 a year.

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